From John R. Talbott’s recent article in the Huffington Post:

Warren Buffet is involved in a situation in which he is deciding whether one of his employees, David Sokol, did something wrong and possibly illegal when he bought close to $10 million in Lubrizol stock prior to Buffet’s firm, Berkshire Hathaway, making an offer to buy the company. Buffet should be careful in his defense of Sokol that it wasn’t just Sokol who did something wrong here and quite possibly illegal.

In a letter to Berkshire’s shareholders, Buffet defends Sokol by saying that Sokol notified Buffet of his substantial position in Lubrizol prior to Buffet’s decision to acquire the company, and that Sokol had no authority to give final approval for acquisitions at Berkshire. Green-lighting a potential merger candidate was solely the purview of Buffet, his vice-chairman, Charlie Munger, and the Berkshire board.

But, does Buffet have the power himself to decide what is legal and illegal activity inside his firm or is that a subject better handled by the law and regulators? If CEOs are given the role of deciding illegal activity wouldn’t that motivate them to hush most things up rather than risk their firm’s reputation? Maybe the employee knows where other bodies are buried in the firm and so it is in everyone’s interest to forget the whole matter and just move on.

David Sokol was a full time employee of Berkshire Hathaway who was assigned the task of finding suitable merger candidates for the firm. He was often identified as the possible successor to Buffet himself.

To see who harmed whom here, imagine if I (Buffet) hired you (Sokol) full-time for a salary of $5 million a year to scour the world and find houses that were undervalued that I would then purchase. In your work on my behalf, for which you were very well compensated, you came across a beautiful home that you purchased for yourself for $1 million dollars. You then showed the home to me and told me I could have it for $1.5 million, which was a good deal for me as we both knew that the home was worth at least $2 million once you made a few minor improvements.

Who was harmed? First, the seller of the home (Lubrizol shareholders) who ended up only getting $1 million for their home that you knew might well be acquired by me for up to $1.5 million. Next, I was harmed because the purchase ended up costing me $1.5 million instead of the $1 million it may have if you had acted properly in your role as my agent and employee and not as principal for your own interests.

Finally, let’s say that I don’t own the company outright that did the buying of these homes, but that I (Buffet) am the CEO of a publicly traded company (Berkshire Hathaway) and that I have public shareholders to be concerned with as well. In this case, I am in no position to act as judge and jury in determining your innocence or guilt because I am no longer the only party harmed. I myself have fiduciary responsibilities to my shareholders for they also lost money by not only paying your salary but compensating you for your renegade principal activities in the housing market.

So Buffet in this case does not have the authority to decide unilaterally if Sokol violated the law or whether to forgive him. His actions not only hurt other Berkshire shareholders who Buffet must protect, they hurt Lubrizol shareholders who cannot be expected to be protected by Buffet acting as lord and master of the law in this case. And it is not just insider trading laws that may have been broken here, it raises the issue of legal responsibilities of an employee to his firm and others whether that employee is David Sokol or Warren Buffet.

This case is at the heart of much of what went wrong on Wall Street in this crisis. Employees of publicly traded firms, like Sokol and Buffet, got very confused as to what their responsibilities were to their shareholders, other firms’ shareholders and to society in general. Regulations were removed such that it was up to individuals to decide what was in their best interest versus what was best for others. Conflicts are certain to arise when the party making the decisions to act is the party making the judgment as to whether and how to mete out punishment. Buffet cannot play both roles, even though at times he does seem to be omniscient and all powerful.